The Situation: The California legislature passed landmark climate bills that surpass emissions disclosure requirements of any other existing state law. The bills are branded as the nation's first comprehensive greenhouse gas ("GHG") emissions disclosure requirement.
The Result: If the bills are signed into law (which seems likely), certain public and private companies "doing business" in California will be required to disclose their direct and indirect emissions across the value chain and publish a climate-related financial risk report beginning in 2026.
Looking Ahead: Companies should take prompt steps to determine the applicability of the rules and to develop procedures for collecting necessary data and measuring their emissions in compliance with GHG Protocol standards. Companies will likely need a coordinated, global strategy to ESG disclosures in light of similar proposed SEC disclosure requirements and European disclosure requirements. In addition, affected companies may want to evaluate potential legal challenges to these two California bills given the broad scope and significant impact on their operations.
Speaking at the opening ceremony of Climate Week NYC, California Governor Gavin Newsom announced his intention to sign two landmark bills, SB 253 and SB 261, requiring companies to disclose and report their GHG emissions and climate risks to the California Air Resources Board ("CARB"). These bills will keep California at the forefront of American corporate GHG emissions regulation.
SB 253 applies to public and private companies that are organized in the United States, reported total annual global revenues in excess of $1 billion for their prior fiscal year, and are "doing business" in California. SB 253 requires companies to publicly disclose not only their direct and indirect GHG emissions (i.e., Scopes 1 and 2 emissions), but also those that come from upstream and downstream GHG emissions from sources that the company does not directly own or control (i.e., Scope 3 emissions). CARB is expected to provide further guidance on Scope 3, but this will include business travel, employee commutes, and use by others of goods sold by the reporting company. CARB must adopt implementing regulations on or before January 1, 2025, and companies must start reporting their Scopes 1 and 2 emissions beginning in 2026, and their Scope 3 emissions in 2027. Collecting data on Scope 3 emissions, which span 15 different categories in total, can be challenging and costly. It requires working closely with suppliers and customers, engaging personnel with technical experience in carbon measurement, and developing data management plans and data quality processes. Failure to comply with SB 253 may result in administrative penalties and fines up to $500,000 in a reporting year; however, the bill provides a defense to administrative penalties for Scope 3 disclosures made in good faith with a reasonable basis.
SB 261 similarly applies to both public and private companies that are organized in the United States and "doing business" in California, but includes companies with total annual revenues in excess of $500 million (rather than $1 billion). Notably, SB 261 does not apply to companies that are subject to regulation by the California Department of Insurance or that are in the insurance business in any other state. Under SB 261, covered companies are required to prepare and publish a biannual climate-related financial risk report on their website that discloses their climate-related financial risk—in alignment with the Task Force on Climate-Related Financial Disclosures—and the measures taken to mitigate those risks. Companies are required to submit their first reports on or before January 1, 2026, and at a minimum, biennially thereafter. Failure to comply with SB 261 may subject covered companies to administrative penalties and/or fines up to $50,000 in a reporting year.
Although neither bill defines what constitutes "doing business" in California, it is possible that the bill will incorporate the California Franchise Tax Board's broad definition of "doing business," which includes any entity that "engages in any transaction for the purpose of financial gain within California."
Interplay With the EU Climate Disclosure Rules and SEC Proposed Rule
SB 253 and SB 261 go beyond the SEC's proposed rules on climate disclosures ("SEC Rule") in scope and level of detail. First, the new California rules will apply to both public and private companies, while the proposed SEC Rule will apply to public registrants only. Second, the proposed SEC Rule calls for Scope 3 disclosures only if the registrant has set a Scope 3 emissions target or if Scope 3 emissions are material. The California's SB 253 requires Scope 3 disclosures of all companies subject to the law.
In this regard, SB 253 sets an unprecedented requirement. Even the EU's Corporate Sustainability Reporting Directive ("CSRD"), viewed by many commentators as the most stringent ESG reporting requirements in the world, allows companies to omit emissions disclosures if, as a result of a materiality assessment, a reporting company determines that it is not material and provides detailed explanation to that effect (see our White Paper, "Who, What, When: The Impact of the EU CSRD on Non-EU Companies").
Even though California emissions disclosure requirements exceed those in the EU, the bill does not address other climate-related disclosures required by CSRD, such as energy consumption and mix, transition plans, or carbon removal projects. Consequently, it is not yet clear if European authorities will recognize SB 253 as an "equivalent" standard that would fulfill the reporting obligations under the CSRD.
Potential Grounds for Challenge
SB 253 and SB 261 (and their implementing rules) may be subject to challenge in litigation on constitutional and other grounds. Requiring disclosures from private companies implicates the First Amendment's protection against compelled speech. To the extent the state's requirements conflict with analogous federal requirements, SB 253 and SB 261 may also be preempted by federal law. The state's implementing rules may be subject to challenge on additional grounds.
Three Key Takeaways
- This landmark legislation in California is a watershed moment for ESG regulations in the United States and surpasses emissions disclosure requirements of any existing state or federal law.
- The California legislation and the CSRD have similar timing for reporting obligations. It is also likely that the proposed SEC rule will have a similar timeline for reporting. Companies should start assessing the applicability of the rule to their company now and begin developing compliance procedures for gathering and validating the required emissions data.
- Companies should consider a global, coordinated approach to emissions and other ESG disclosures in light of these bills, the CSRD, and the upcoming SEC climate change disclosure rules.